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FRM Part II · FRM Exam Part II · Repurchase Agreements and Financing

A dealer sells USD 50 million of Treasury notes to a money market fund with an agreement to buy them back tomorrow at a slightly higher price. From the dealer's perspective, which description is correct?

The dealer is conducting a repo: it sells the securities and agrees to buy them back at a higher price, which is economically a cash borrowing secured by the Treasury notes. The money fund on the other side is doing a reverse repo.

  1. AIt is a repo, and the dealer is borrowing cash against the securities as collateralCorrect
  2. BIt is a reverse repo, and the dealer is lending cash against the securities
  3. CIt is an outright sale, because title to the securities passes permanently
  4. DIt is a securities lending trade, because the dealer receives a fee for lending the notes

Explanation

The party selling securities with a commitment to repurchase is doing a repo and is economically borrowing cash secured by the securities. The money fund is doing a reverse repo. The sale is not outright because the repurchase is agreed at inception.

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